Lately, it seems that defined contribution plans such as 401(k)s have overshadowed the more traditional defined benefit pension plans. In the former, of course, employees have to contribute money and make investment decisions, whereas for the latter it's the employer who puts in the money and promises a fixed payout when employees retire.
But plan sponsors in search of a more secure, less risky retirement plan might want to consider the Milliman Sustainable Income Plan (formerly known as the Milliman Variable Annuity Pension Plan).
"The design is truly sustainable in a way that defined benefit and defined contribution plans are not," explains Kelly Coffing, Milliman principal and consulting actuary, based in Seattle. The SIP, she continues, offers "lifelong income and funding stability while maintaining a balanced portfolio to get the best risk adjusted returns."
How? The SIP is technically a defined benefit plan, but one in which benefits adjust up or down with the plan's performance, "thereby keeping assets and liabilities in balance," says Coffing. The plan establishes a base investment return or "hurdle rate." If annual returns equal that rate, the plan functions like any other defined benefit plan. But if they lag or surpass that rate, the benefits increase or decrease accordingly.
"Like a traditional defined benefit plan, participants receive a lifelong monthly benefit," says Coffing. "Unlike a traditional plan, the level of the monthly benefit is not fixed, but can adjust, up or down, based on actual investment returns of the plan."
Contributions, on the other hand, don't have to adjust. The SIP is designed for a specific contribution level that doesn't change from year to year and, as such, is kept fully funded in all economic environments. "The contributions are directly tied to the benefit levels desired in the plan and are mostly related to the level of contributions employers want to make for retirement and/or the desired level of benefits to be provided," says Coffing.
Make no mistake: the SIP is a variable annuity pension plan. VAPPs have existed since the 1950s, before the rise of today's variable annuity insurance products. But in fact they don't have anything to do with variable annuities. Instead, assets are invested in a balanced portfolio, just like any other pension plan. Milliman renamed its product to avoid confusion with actual annuities.
Despite the age of the underlying design, public awareness remains low. Coffing urges advisors to better understand the SIP and perhaps have their plan-sponsor clients take a second look at it. It might not be for all employers, but, she insists, it is "a great design for public, single employer/corporate or multi-employer plans, whether they currently offer a traditional defined benefit plan or a defined contribution plan."
Because traditional defined benefit plans offer fixed benefits, she points out, they can be difficult for employers to keep fully funded. At the same time, defined contribution plans require retirees to manage their own assets, to save and invest responsibly. In addition, they typically generate lower returns than defined benefit plans, in part due to higher fees. And they do not allow for longevity pooling, which enables retirees to pool together a portion of their retirement accounts. Those who stay in the pool longer end up receiving more from it, thus reducing or even eliminating the risk of outliving their assets.
To be sure, the SIP won't solve all retirement-plan problems. For instance, it offers no particular advantage for underfunded pensions. But it may be the solution some are seeking. "Many sponsors are transitioning their current retirement plan design to the SIP," says Coffing. "This is easy to do for defined contribution plans or well-funded defined benefit plans."